Wall Street reacted positively last week to news that the Federal Reserve plans to finally raise interest rates from near zero by sometime next year.
But we’ve heard these kinds of empty promises before from the Fed.
The Fed reduced the benchmark federal funds rate to near zero in December 2008 to help stem the tide for a U.S. economy that had fallen into a deep recession. Five-and-a-half years later, short-term interest rates are still near zero (between 0 and 0.25%). And while it may seem like the Fed is on the cusp of finally raising them, we’ve heard this song and dance before.
Consider this timeline for Fed interest rates:
-August 2011: After nearly three years of saying that short-term interest rates would remain near zero “indefinitely,” the Fed projects that they will only remain that low through mid-2013.
-January 2012: Five months later, the Fed changes its tune, saying that interest rates will remain near zero through late 2014.
-June 2012: Ben Bernanke says that the Fed plans to keep interest rates near zero as long as unemployment remains above 6.5%. At the time, unemployment remained at a rather bloated 8.2%.
-September 2012: In another amendment, the Fed bumps the projected interest-rate hike back to mid-2015.
-December 2013: On his way out the door as Fed chief, Bernanke says that interest rates will likely remain near zero until unemployment falls “well past” 6.5%. The rate had just fallen from 7% to 6.7%.
In the span of less than two and a half years, the Fed’s end date for near-zero interest rates moved from mid-2013 to mid-2015. Even now, there seems to be little consensus on that mid-2015 projection.
Of the dozen members on the Federal Open Market Committee (FOMC), which sets policies on interest rates, three of them don’t expect the upswing to be put off until 2016. One member actually thinks it could happen this year.
And that’s the inherent part of the problem with reading too much into the words of a committee comprised of 12 people with widely varying views on the economy. If the members of the actual FOMC can’t agree on a timetable for raising interest rates, then why should we as investors put much stock into what the head of that committee tells us every month?
More to the point: I wouldn’t go selling off all your dividend stocks just yet. With CDs, money market accounts and U.S. Treasury bonds offering little to no yield over the past five-and-a-half years, dividend stocks have been a valuable alternative when searching for yield. Even if the Fed does raise interest rates starting a year from now, it will take a while for them to get from yields of 0.25% to anything substantial.
Fed officials project that the federal funds rate will hit 1.2% by the end of 2015 and 2.5% by the end of 2016. Right now, the average yield among S&P 500 stocks is 1.8%. In other words, we’re about two years away from short-term interest rates yielding more than your average dividend stock . . . at the earliest.
My advice? Don’t listen to what the Fed says about interest rates. I’ll believe they are raising rates when I see it. And even then, it’s going to be a long slog back to attractive yields from near zero.
Until then, keep holding onto those dividend stocks. Thankfully, the Fed can’t touch those.
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